New home, auto loan rules: What it means for new, existing borrowers

From October 1, all banks have to link new retail loans, including auto and home loans, to an external benchmark. According to Reserve Bank’s latest directive all new floating rate of personal or retail loans (housing, auto, etc.) and floating rate loans to Micro and Small Enterprises extended by banks from October 01, 2019, will have to be linked to an external benchmark. Many public sector banks, including SBI and Bank of Baroda, already offer home loan products that are linked to RBI’s repo rate. For example, the effective interest rate of SBI’s repo rate-linked home loan product, which was launched in July, is linked to the RBI’s repo rate and it changes from the first next month as and when the RBI revises its repo rate.

New home, auto loan rules in 10 points:

1) All existing home and auto loans linked to the MCLR/Base Rate/BPLR will continue till repayment or renewal, the RBI said. The rate of interest for retail loans based on marginal cost of funds or MCLR regime are linked to the bank’s cost of fund.

2) Existing borrowers under floating rate loan schemes, who can prepay the loan without pre-payment charges, will be eligible for switch over to the new external benchmark-linked loan without any charge/fees except administrative/legal cost.

3) The final rate charged to the borrowers who have switched to the new loans linked to external benchmark would be the same as the rate charged for a new loan.

4) The three external benchmarks the RBI has proposed for linkage of new home and auto loans are its policy repo rate, the Government of India’s three-month and six-month treasury bill yields published by Financial Benchmarks India Private (FBIL), or any other benchmark market interest rate published by FBIL. RBI has also allowed banks to offer such external benchmark linked loans to other types of borrowers as well, apart from retail floating home and auto loans and MSME loans.

5) However, banks have to follow a uniform external benchmark within a particular loan category.

6) For new floating auto and home loans, banks have been given the freedom to decide the spread over the external benchmark. For example, under SBI’s repo rate-linked home loan product, its own lending rate is fixed 225 basis points above the RBI’s repo rate. SBI also charges a credit risk premium, depending on the credit profile of the borrower, to finalise the effective rate.

7) According the the latest RBI guidelines, for new floating home and auto loans, banks could change the spread over the external benchmark once in three years.

8) The credit risk premium could undergo a change only when borrower’s credit assessment undergoes a substantial change, as agreed upon in the loan contract, the RBI said.

9) In addition, the interest rate of the auto and home loan rates should be reset at least once in three months, depending on the change of the external benchmark.

10) Domestic brokerage Motilal Oswal in a note said that migration to the new loan pricing methodology will aid faster monetary transmission but will bring in more volatility to spreads/margins for banks across cycles. The RBI had observed that internal benchmarks such as the base rate/MCLR have not delivered effective transmission of monetary policy.

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